Eighth consecutive record high for stocks

Price is what you pay; value is what you get. Whether we’re talking about socks or stocks, I like buying quality merchandise when it is marked down. – Warren Buffett

For the eighth straight week, the stock market closed at record highs and the technology-laden Nasdaq composite index closed above the 4,000 level for the first time since September 2000. Although the gains were modest and the economic news relatively sparse during the week, stocks nonetheless defied gravity and continued their upward climb. Fear of being left behind has caused many investors to jump on the bandwagon with the hope of participating in a seasonally strong period for the stock market between Thanksgiving and Christmas. To be sure, the average gain for the S&P 500 Index in December since 2000 has only been 1%, which is certainly no reason to throw caution to the wind and leap headfirst into the stock market, especially after the benchmark index has risen 26.6% for the year. While many so-called market experts have been anticipating a correction before year-end, it looks more and more like a non-event as retail investors remain skeptical about the rally and widespread optimism and exuberance seem to be lacking. This absence of euphoria, which usually signals bull market peaks, could benefit stocks in the short-run but caution should be exercised unless an investor has a long-term investment time horizon. Chances are a correction will come when investors least expect one and having a well-diversified portfolio with the appropriate mix of stocks and bonds offers the best protection against downside risk.

Last Week

The early returns on Black Friday and the holiday shopping season were encouraging as many retailers reported strong customer traffic and sales, causing many retail stocks to rise. This occurred despite the fact that the consumer confidence index fell for the third straight month as consumers appeared cautious heading into the holiday shopping season on concern about their jobs and income growth. It will be interesting to see the early reads on holiday shopping as there often is a difference between what people say and what people do.

In other economic news, U.S. building permits jumped 6.2% in October to the highest level since 2008, suggesting the housing recovery remains intact and a healthy sign that bodes well for 2014. Weekly jobless claims also fell by 10,000 to the lowest level since late September as the labor market also continues to improve. However, durable-goods orders dropped 2% in October and showed that business investment remains soft. Business investment usually accelerates during a recovery but many businesses continue to hoard cash and invest cautiously.

For the week, the Dow Jones Industrial Average added 0.1% to close at 16,086 while the S&P 500 Index also rose just 0.1% to close at 1,805. The Nasdaq Composite Index was the clear winner of the three benchmarks as it climbed 1.7% to close at 4,059.

This Week

This week will provide investors with a plethora of economic data that will give investors and the Federal Reserve important clues about the strength of the economy. The week begins with Cyber Monday, which typically is a huge day for e-commerce shopping and generated almost $1.5 billion in sales last year. New home sales for both September and October are also on tap and should provide further evidence of an improving housing sector. The second estimate for third quarter GDP growth will be released, too, and should be revised upward to between 3.0% and 3.5% on stronger inventory accumulation.

The most significant piece of economic data, however, will be the November employment report, which should confirm continued improvement in the labor market. The estimate for non-farm payrolls is an increase of 180,000 while the unemployment rate is forecast to decline to 7.2% from 7.3%. This is the last significant economic report before the Federal Reserve policy-setting meeting on December 17^th and 18th and could persuade the Fed to taper if it is strong enough. In all likelihood, though, the Fed will delay any reduction to its stimulus program until the spring of 2014.

As earnings season winds down, the most notable companies scheduled to report include specialty retailers such as Men’s Wearhouse, Jos. A. Bank Clothiers, Aeropostale and American Eagle Outfitters.

Portfolio Strategy

As we begin the last month of the year, the biggest obstacle for the stock market appears to be the possibility of higher interest rates caused by a stronger economy and inevitable tapering by the Fed. Interest rates as measured by the 10-year Treasury yield of about 2.70% are at the same level now as they were five months ago and seem destined to remain in a narrow trading range over the next several months. With a benign inflation outlook and only modest economic growth forecast, interest rate risk should not come into play anytime soon, especially with the Fed promising to keep rates low for a long time. Against this backdrop, bond investors should feel comfortable owning high quality, short-to-intermediate term bonds as their principal value should not be at risk. For the stock market, the biggest negative is the fact that stocks are trading at all-time highs and are due for a correction. As Louis Rukeyser once said, trees don’t grow to the sky. But other factors that influence stock prices, such as profit growth, economic expansion, housing and jobs data, seem favorable. Other positives include limited tax loss selling this year due to the strong stock market and year-end window dressing on the part of managers to show their clients they have adequate exposure to equities in their portfolios. These factors would seem to argue against a near-term correction and for continued strength in the market through year-end.